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easyJet - profit expectations raised, but challenges remain

George Salmon | 6 October 2017 | A A A
easyJet - profit expectations raised, but challenges remain

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easyJet plc Ordinary 27 2/7p

Sell: 1,428.00 | Buy: 1,430.00 | Change -9.00 (-0.63%)
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easyJet has issued a trading update covering the three key summer months, July, August and September. The group carried a record 24.1m passengers in the period, helping load factor, a measure of how full the planes were, rise to 95.6%.

This strong end to the year means pre-tax profits are now expected to be £405m-£410m, at the upper end of previous guidance. However, easyJet CEO Carolyn McCall is still describing the market as challenging. The shares dipped 1.3% on the news.

Our view

Capacity is pouring into the industry, forcing carriers to cut prices. easyJet is no exception, and only increasing its own capacity is keeping revenues moving in the right direction. Lower fuel prices have helped keep many afloat, but the demise of Monarch, Alitalia and Air Berlin shows that struggling carriers are now starting to feel the heat.

Fewer competitors should take some of the pressure off easyJet, and Ryanair's problems may well see the group pick up a few extra passengers. However, there's still a fair way to go before we get back to the comfort zone. Indeed, other factors like industrial disruption and terrorist activity have only added to the woes.

easyJet faces additional challenges versus its less UK-centric rivals. While many FTSE 100 companies have benefited from weaker sterling, leading the index to record highs, recent currency movements have not been easyJet's friend.

European revenues are now more valuable, but operations at European airports are more expensive when servicing UK customers, and the pound in the pocket of those customers won't go as far as it once did. Lower sterling also undermines some of the benefits from lower fuel costs (which is priced in dollars).

easyJet has advantages though. A leading position in many of its major markets should mean negotiations with airports and ground crews start from a position of strength, helping reduce costs. The airline is continuing to build out capacity, reinforcing this process. Increasing scale could prove vital if prices continue to fall.

There are one or two other rays of light visible through the clouds too. Capacity growth is expected to slow and that might see pricing pressure ease in the coming months. Bookings for the year ahead are strong, albeit at lower prices, and should allay fears that weaker sterling would result in a significant reduction in outbound UK traffic.

easyJet currently offers a prospective yield of 3.8%. However, its policy of paying out 50% of profits means that the dividend could prove volatile if headwinds continue to impact the bottom line. The stock currently trades on 1.6 times forward book value, marginally above its longer term average.

Trading update (at constant currency)

The trends in easyJet's fourth quarter trading update are familiar. Fare prices continue to fall, with revenue per seat dipping 3.7% at per seat, while capacity increases, up 8% on last year.

Looking ahead to the full year, fuel costs are expected to fall by around £230-235m, helping cost per seat fall by around 4.4%. Excluding fuel, cost per seat are set to increase by around 1%, in line with prior guidance.

Foreign exchange movements are expected to have around a £100 million adverse impact on headline profit before tax compared to the previous financial year.

The group expects ongoing market capacity growth to remain a headwind. easyJet itself plans to grow capacity by around 6% next year.

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